Vous êtes sur la page 1sur 41

ASEAN DOLLAR : A Common Currency Establishment

for Stronger Economic Growth of ASEAN Region


1



Aman Agarwal
2

Indian Institute of Finance, Delhi, INDIA
IIF Business School, GGS Indraprastha University, Delhi, INDIA

J. H.W. Penm
3

School of Finance and Applied Statistics, Faculty of Economics and Commerce
The Australian National University, Canberra, AUSTRALIA

Wing-Keung Wong
4

Department of Economics, National University of Singapore, SINGAPORE

Lynn M. Martin
5

University of Central England, UNITED KINGDOM


________________________
The authors gratefully acknowledge the technical support of Australian National University, National
University of Singapore, Indian Institute of Finance and IIF Business School. We would like to thank Kanti
Swarup [IIF, India], R. D. Terrell [ANU, Australia], Donato Masciandaro [Bocconi University, Itlay]
Roberto F. Ocampo [AIM, Philippines] and J.D. Agarwal [IIF, India] who have reviewed our work and
have given us their valuable comments. The views and reviews presented in the paper are views and
opinions of the authors, based on our research and experience and do not depict institutional or countries
views or of the institutions the authors are associated with. All errors and omissions are our own.

1
Paper invited to be delivered as Special address in the Editorial Forum at the International Conference
on Business, Banking and Finance, The UWI Department of Management Studies, and The UWI -
Institute of Business, Port of Spain, Trinidad and Tobago, April 27-29, 2004.
2
Professor & Director, IIF Business School (GGS Indraprastha University), Delhi, INDIA. The author
is also Honorary Professor of Uzbekistan, Tashkent State University of Economics, UZBEKISTAN;
Adjunct Professor of Finance & Director (Offg), Indian Institute of Finance, Delhi,INDIA; Associate
Editor, Finance India, Delhi, INDIA and Secretary & Treasurer, Jyoti Foundation, Delhi, INDIA
Contact: Director, IIF Business School, [GGS Indraprastha University], 4, Community Center II,
Ashok Vihar, Phase II, Delhi 110052. INDIA, Phone: 0091-11-27437917, 27451212; Fax: 0091-11-
27454128; Email: aa@iifbs.edu OR jf@vsnl.com OR aagarwal@lsealumni.com
3
Research Fellow, School of Finance and Applied Statistics, Faculty of Economics and Commerce,
Australian National University, Canberra, A.C.T. 0200, AUSTRALIA, Phone: 0061-2-61250535, Fax:
0061-2-61250087, Email: Jack.Penm@anu.edu.au
4
Associate Professor, Department of Economics, Faculty of Arts & Social Sciences, National
University of Singapore, 1 Arts Link, SINGAPORE 117570. Phone 0065-68746014, Fax 0065-
67752646, Email: ecswwk@nus.edu.sg
5
Professor & Director (EU Asia Programmes), Business School, University of Central England,
Birmingham, B42 2SU, UNITED KINGDOM. Phone +44-121-3317796 / 6440, Fax +44-121-
3316366, Email: Lynn.Martin@uce.ac.uk
Agarwal, Penm, Wong & Martin "ASEAN DOLLAR : A Common Currency Establishment for
Stronger Economic Growth of ASEAN Region"

2



ABSTRACT


The current optimal strategy for ASEAN countries is to assess whether the necessary
environments exist for the establishment of a well-integrated common financial market
for the ASEAN area, and consequently support for a single currency. The currency is for
discussion purposes termed the ASEAN Dollar. In this paper we focus on a practical
application, involving two components: 1) The six convergence criteria that we propose
each ASEAN country should meet in order to become eligible for the ASEAN Dollar;
and 2) Establishment of the ASEAN Economic and Currency Community (AECC).

Further, measurement of the evolution of financial market integration in the ASEAN
countries will be investigated. Patterned vector timeseries modelling will be utilised to
set up and monitor economic and financial integration indicators. Those economic and
financial integration indicators will be applied to measure the following three broad
financial categories in the ASEAN countries: a) credit and bond market integration and
cointegration to establish the nature of short and long-term co-movement; b) Stock
market integration and cointegration to establish the nature of short and long-term co-
movement; and c) Exchange rate market integration and cointegration to establish the
nature of short and long-term co-movement. Subsequent evaluation of key indicators of
economic and financial integration will also be undertaken.



Keywords: ASEAN Dollar; Convergence Criteria; Market Integration;
Common Currency; ASEAN; Financial Markets; Consolidation;
ASEAN Monetary Union

JEL Classifications: G10, F30, F36

Agarwal, Penm, Wong & Martin "ASEAN DOLLAR : A Common Currency Establishment for
Stronger Economic Growth of ASEAN Region"

3

I. Background
Globalization has altered the economic frameworks of both developed and developing
nations in ways that are difficult to comprehend. The persistent rise in the dispersion of
current account balances of the world as a whole, wherein the sum of surpluses match the
sum of deficits has grown substantially since the World War II. Also the emergence of
unregulated global markets appears to have moved towards a more stable and growth
oriented economic globe. The economic regions which have emerged in the last three
decades showing stable growth with regards to trade and co-integration have been the
North America Free Trade Agreement Zone (NAFTA), the European Union (EU) and the
ASEAN. Though there has been emergence of economies like China and India for both
trade and economic development in the last decade, however the above mentioned three
regions have by far had a cumulative co-integrated growth factor. The US has led the
countries in the North America Free Trade Zone to undertake free trade activities, and
has achieved significant results. The European Union has achieved considerable
economic integration and inaugurated the European Single currency (Mundell, 1997,
Agarwal 2003, 2002). The ASEAN countries comprise Brunei Darussalam, Cambodia,
Indonesia, Laos, Malaysia, Myanmar, Philippines, Singapore, Thailand and Vietnam.
These countries are striving to establish the free trade zone, although the level of
economic integration is still low in the ASEAN region.

The recent developments where there is a move towards the ASEAN countries having
agreed to strengthen the existing cooperative monetary framework with China, Japan and
India is a positive step towards a stronger financial setup and socio-economic growth.
The agreed monetary arrangements will involve a network of monetary exchange within
the ASEAN+3 countries. Also, the ASEAN countries have agreed with China to establish
a China-ASEAN free-trade-zone within the next ten years. Nothing is particularly
innovative in these two regional agreements, as they only propose to use the existing
monetary framework within the ASEAN countries. This is similar to the way EU
Institutions had increased trade associations between the region in the 1970s and 1980s
Agarwal, Penm, Wong & Martin "ASEAN DOLLAR : A Common Currency Establishment for
Stronger Economic Growth of ASEAN Region"

4

(Agarwal 2003, 2002, 2001). However the ASEAN countries have their own problems to
resolve. For example, the wealth gap between rich and poor in many ASEAN countries is
very large. Also the ASEAN countries experienced the worst ever 1997 Asian financial
crisis. There has been an inconsistency in the recovery from the 1997 crisis within the
ASEAN region countries. Overall the ASEAN countries have experienced low economic
growth, a somewhat unstable social and political environment and heavy foreign debt.
Since each member country of ASEAN needs to solve its own internal problems, this
leads to a lower expectation for immediate regional co-operation and to disparate
collaboration policies with non-ASEAN countries. Notably Singapore alone has signed
free-trade-zone agreements with Australia, Japan and the USA respectively. None of the
other ASEAN countries have been involved in these three agreements. This is indicative
that future developments within ASEAN may be uncertain.

Further, Japan has recently signed the Tokyo Declaration and Activity Plan with the
ten ASEAN countries. The Japanese Government will provide those countries with US$
3 billion to establish a trade-free zone before the end of 2012. The aims are to (1)
develop human resources; (2) strengthen technical skills in the ASEAN region; and (3)
decrease the development gap amongst the ASEAN countries. Considering the above
facts, we see that a great attention has been paid to global economic issues in the last
decade. This has been a natural byproduct of the increasing inter-dependencies of all
national economies. This has accentuated in recent years due to the emergence of several
developing countries as global economic forces, the reorganization of production process,
change in nature and location of development and finance. One can clearly observe this
with the economic growth and self sufficiency attained by India, China and quick re-
emergence from crisis of the ASEAN countries (Agarwal & Agarwal, 2004).

II. Scope of the Proposal
The current optimal development strategy for the ASEAN countries could be to plan and
establish a common financial market for the ASEAN region, to be underpinned by a
Agarwal, Penm, Wong & Martin "ASEAN DOLLAR : A Common Currency Establishment for
Stronger Economic Growth of ASEAN Region"

5

single currency and formation of a monetary union. The common currency proposed in
the paper is denoted as the ASEAN Dollar. There are extensive research and academic
papers in support of the positive contribution of a single currency. The US$, EURO and
INR (Indian Rupee) have shown their proved strength and sustained economic growth in
the regions they have been used. Therefore theoretical advocacy is not re-iterated here,
and we focus on a practical application. The expected advantage of an ASEAN Dollar is
an improvement in the economic strength of each ASEAN member country, resulting in
an improvement in their long-term economic growth. Some of the other observed benefits
in Europe, US, India and other integrated economies have been increases in trade of both
goods and services; in house investment growth (among countries in union / region);
reduction in transactional costs (in cross-border business); reduction in volatility in
exchange rates and financial markets and finally more stable socio-economic growth.
These substantial benefits can be attained due to
I) elimination of the costs of currency exchange;
II) improvement of market operations by pricing goods and labour using a
single currency; and
III) adoption of a single currency to prevent tax cheats and tax avoidance.
IV) formation of monetary union
V) increasing labour markets

After a long period of fostering the concept, the ASEAN countries could expect that the
initiation of the ASEAN Dollar would exhibit the following the above mentioned
strengths along with
I) an integrated regional economic and financial framework;
Agarwal, Penm, Wong & Martin "ASEAN DOLLAR : A Common Currency Establishment for
Stronger Economic Growth of ASEAN Region"

6

II) a forward-looking progressive attitude shared by the leaders of all
ASEAN member countries, whereby those leaders are willing to give
up the power of issuing their own currency, and transfer this power to
the proposed Central Bank for the ASEAN countries; and
III) an application of advanced forecasting techniques, as proposed by us,
will establish whether the conditions needed to sustain an ASEAN
Dollar Community are likely to prevail.

III. Establishment of the ASEAN Economic and Currency Community (AECC)
3.1 Organisational Structure
The adoption of the ASEAN Dollar will result in the replacement of the existing ASEAN
currencies by the ASEAN Dollar. This adoption has been agreed to in principle, and
therefore there should be little impediment on its implementation. To achieve this
adoption careful planning is indispensable, and sustained adverse impacts on the ASEAN
markets needs to be understood and avoided. AECC will be responsible for this currency
adoption activity, and the position of the AECC in this process is shown in Figure 1.

Figure 1
Flowchart of the position of the AECC in the adoption process
for the ASEAN Dollar
ASEAN member countries
Brunei Darussalam
Cambodia
Indonesia
Laos
Malaysia
Myanmar
Philippines
Singapore
Thailand
Vietnam




establish



ASEAN
Economic and
Currency
Community
(AECC)



adopt





ASEAN
Dollar


Agarwal, Penm, Wong & Martin "ASEAN DOLLAR : A Common Currency Establishment for
Stronger Economic Growth of ASEAN Region"

7

3.2 Responsibility
The AECC will also aim among other things, to reduce the wealth gap between poorer
people and richer people by undertaking development and coordination. The members of
the AECC will come from the ASEAN countries, and it is proposed that the AECC
should set up an executive committee. The executive committee may be led by a
Chairperson, and comprise various agencies to reflect the tasks assigned to the AECC.
Thus it might establish a Standing Development group, a Forecasting Methodology
Advisory group, a Secretariat group, and a Legal and Planning group, and such other
groups as are needed to achieve AECC objectives and associated tasks. All group leaders
may be appointed with scholars and specialists in the ASEAN region. It will also need to
undertake competency based training (CBT) and workshops to regularly provide specific
skills required by government officials and identified as necessary for job-seeking
workers. Figure 2 below shows the possible structure of the AECC and relevant
activities.
Agarwal, Penm, Wong & Martin "ASEAN DOLLAR : A Common Currency Establishment for
Stronger Economic Growth of ASEAN Region"

8

Figure 2
Possible Structure of the AECC

A) AECC executive committee
A.1. Standing Development Group
A.1.1 Statistics Team
A.1.2 Monetary System Team
A.1.3 Scope: research in budget, government loans and taxation
A.1.4 Finance Team
A.1.5 Scope: research in currency, interest rate and exchange rate
A.1.6 Economics Team
A.1.7 Scope: research in price, inflation and economic growth
A.1.8 Trade Team
A.1.9 CBT Team
A.2. Secretariat Group
Scope: budget planning and preparation, meeting arrangements, work
plans and task implementation, and Miscellaneous tasks
B) Special responsibility
B.1. Forecasting Methodology Advisory Group
B.2. Legal and Planning Group
Scope: Central Bank preparatory office, Single market, Legal procedure
examination, ASEAN Dollar simulation planning and Miscellaneous tasks

3.3 Specific Tasks of the AECC
3.3.1 Establishment of the Legal status of the ASEAN Dollar
The AECC may need to make various innovative proposals, and then invite Treasurers
and Ministers of Finance of each ASEAN countries or local equivalents to meet with the
President of the Central Bank to make final decisions on the proposals. After an
agreement is reached, individual ASEAN countries may complete necessary legal
procedures, so that subsequent actions may be recognised by all ASEAN countries. For
Agarwal, Penm, Wong & Martin "ASEAN DOLLAR : A Common Currency Establishment for
Stronger Economic Growth of ASEAN Region"

9

instance, all agreements may need to be guaranteed to remain effective until the official
adoption of the ASEAN Dollar. Also the implementation of relevant policies may need to
be supported by the relevant legal systems. Thus the AECC needs to ensure the relevant
legal framework is adopted in each ASEAN country.

3.3.2 Establishing the qualifications required of countries wishing to participate in
the ASEAN Dollar scheme
The economic environment of the ASEAN region is different from that of the European
Union. In the course of establishing the qualifications required of countries wishing to
participate in the ASEAN Dollar scheme, the AECC may encounter many statistical
complexities, some currently unknown and some which cannot be fully quantified. It is
estimated that at least several years may be required to ascertain exactly what type of
statistical information may need to be collected, and to achieve the necessary statistical
returns. After data collection, analysis and forecasting, a reliable quantitative model for
the ASEAN economic framework can then be established. It is proposed that the original
six ASEAN countries will initially participate in the single ASEAN currency. After a
reasonable period to facilitate the development of appropriate systems, the remaining four
ASEAN countries may then join the single ASEAN currency.

Reflecting their varying historic traditions, ASEAN member countries have different
economic, monetary and banking frameworks. After the ASEAN Dollar is adopted,
central monetary policy will have different impacts on each of the member countries.
Thus unexpected difficult economic circumstances may arise. When those difficulties
occur, the ACEE needs to monitor the situation and assist member countries to avoid
unnecessary friction. The key economic cost from formation of a currency union by a
group of countries is the loss of national autonomy in the monetary policy, as projected in
almost all economic integrations. Under such consortiums, the scope of independent
monetary policies by the member countries of the region reduces to the minimum. The
economic loss from giving up an independent monetary policy may not be very large for
Agarwal, Penm, Wong & Martin "ASEAN DOLLAR : A Common Currency Establishment for
Stronger Economic Growth of ASEAN Region"

10

such countries as the record of developing countries in conducting independent national
monetary policies to minimize cyclical fluctuations in the economic activities is in itself
minor. The singular currency and joint monetary policy would enable bring forth greater
macro-economic stability from countries having less hold (Barro 2001). Considering this
the member countries need to develop policies which encourage a stable monetary
situation and which control turbulent domestic circumstances. The ASEAN countries
should certainly refer to the Maastricht Treaty which stipulates six criteria that countries
in the EU must meet to become eligible for adoption of the EURO. All quantitative
figures need to be re-assessed to ensure relevance for ASEAN conditions and to
introduce flexibility with a fair variation of 5 to 10% in the conditionality should be
permitted; so that violation of the type of Germany and France recently in case of EU
does not surface and distract the decision making and cooperative process. These six
criteria which are vital are

a. The ratio of a countrys planned or actual government deficit to GDP must not exceed
3 percent;
b. The ratio of a countrys government debt to GDP must not exceed 60 percentage
points;
c. A countrys currency must have stayed within the normal 15% fluctuation margins
for at least two years, without devaluing further against the currency of any other
member;
d. A country's inflation rate must not exceed by more than 1.5 percent the average
inflation rate of the three best performing members;
e. A member must have had an average nominal long-term interest rate that does not
exceed by more than 2 percent points that of, at most, the three best performing
members.
f. Management of the money supply within the ASEAN Dollar community to facilitate
the achievement of criteria a) to e).

Agarwal, Penm, Wong & Martin "ASEAN DOLLAR : A Common Currency Establishment for
Stronger Economic Growth of ASEAN Region"

11

3.3.3 Improvement of guidance mechanisms for a number of countries
Although the Euro has been officially inaugurated, it seems to have lost part of its
coverage because three EU countries have still not officially adopted it. It is possible that
a similar situation could arise when the ASEAN dollar is officially inaugurated. Thus the
AECC needs to improve its guidance mechanisms for those member countries which
might not wish to or be able to meet all criteria to become eligible for adoption of the
ASEAN Dollar. The AECC should adopt procedures to assist countries wishing to
improve their economic operations, and thus meet criteria to become eligible for the
ASEAN Dollar.

3.3.4 Establishment of Core member countries
The AECC may assess ASEAN member countries to determine their eligibility for the
ASEAN Dollar. After the eligibility assessment model is established, it needs to be
approved by a meeting of Treasurers and Finance Ministers of all ASEAN countries and
the President/Governor of the Central Bank for the ASEAN Dollar. Further, this model
needs to be incorporated into the legal systems of the ASEAN region. All those member
countries with sufficiently strong economic circumstances may be eligible for the
ASEAN Dollar. They can also become core member countries as a demonstration of what
is required of other intending countries. Subsequently those remaining countries can
improve their economic operations, and thus qualify to adopt the ASEAN Dollar. Our
findings in the paper suggest that Malaysia might be the first country qualified to adopt
the ASEAN Dollar as a forerunner of others. The other countries, once able to adopt the
ASEAN Dollar, would in turn be the forerunners.

IV. Establishment of the ASEAN Bureau of Statistics
ASEAN Bureaus of Statistics (ASEANBS) may be ultimately responsible for all
statistical and financial data collection, data analysis and data assessment in all ASEAN
member countries. ASEANBS may assess the existing statistical agencies in all ASEAN
member countries, and then assist those statistical agencies to establish a statistical
Agarwal, Penm, Wong & Martin "ASEAN DOLLAR : A Common Currency Establishment for
Stronger Economic Growth of ASEAN Region"

12

system and procedures necessary to ensure that all statistical information required
demonstrating achievement of criteria. Statistical and financial data need to reflect the
current economic situation and future economic outlook, and thus may be crucial and
decisive factors in the successful implementation of the ASEAN Dollar. Therefore a
central statistical agency at the highest level is required to undertake statistical work to
support the ASEAN region. The establishment of the ASEANBS is one of the most
important tasks which must precede the operation of the ASEAN Dollar.

V. Monetary and tariff arrangements
In order to implement the ASEAN Dollar plan, support from a sound monetary and tariff
policy is also necessary. Three concurrent approaches are needed as follows:

5.1. Tariff reduction
5.1.1 Remove existing Tariff barriers
The ASEAN Free Trade Area (AFTA) has been agreed, and signed by ASEAN member
countries, and is now being implemented. Tariffs may be completely abolished by 2010
for ASEAN-6 (Brunei Darussalam, Indonesia, Malaysia, Philippines, Singapore and
Thailand), and by 2015 for the newer members (Viet Nam, Laos, Myanmar and
Cambodia - with flexibility on some sensitive products until 2018).
When this process is completed in the ASEAN region, travel, goods, technology, labour
and capital can freely flow without any restrictions. The achievement of AFTA may
result in:
a. Simulation tasks being simplified and thus being completed more speedily
b. The year 2010 being designated as ASEAN Dollar Year, which should be a
target year for the inauguration of the ASEAN Dollar.

5.2 Control government expenditure and so decrease the issue of government bonds
Agarwal, Penm, Wong & Martin "ASEAN DOLLAR : A Common Currency Establishment for
Stronger Economic Growth of ASEAN Region"

13

In preparation for the implementation of the ASEAN Dollar, all ASEAN member
countries need to minimise their budget deficits even if they meet the six criteria
described in Section 3.2.2, reduce government expenses, and decrease the issue of
government bonds. Those tight fiscal measures may bring disharmony to people living in
the ASEAN region, and may possibly lead to strong reaction, such as large-scale strikes.
However a strong fiscal policy is a needed measure for the success of monetary policy
and stable economic growth in the region (Agarwal 2003, 2002, 2001). Although adverse
responses have been experienced in Euro zone countries on this issue. In order to lessen
the adverse impacts on the ASEAN region before introducing the ASEAN Dollar, this
paper proposes a variety of measures to support those ASEAN countries, in particular, to
strengthen the psychological preparedness of people to adapt to various changes that may
occur in the ASEAN countries.

5.3 Issues arising from tariff removal
5.3.1 Harmonisation amongst ethnic groups and employment opportunities
Due to long-term economic circumstances resulting in large gaps between richer and
poorer people in the ASEAN region, harmonisation amongst ethnic groups is a very vital
aspect in the formulation and implementation of the ASEAN Dollar. Reconciliation is the
most effective tool to achieve benefits amongst various ethnic groups in the ASEAN
region. Reconciliation, indicated by greater equity in the treatment of different ethnic
groups, may encourage cooperation, harmony, consistent and fair treatment, and thus
becomes a goal to achieve within and between each of the ASEAN countries.
Expectations of better employment opportunities for disadvantaged ethnic groups are
intended to be significantly improved as part of this reconciliation process.

5.3.2 Arrangements for streamlining of tariffs
The streamlining of tariffs needs to be part of arrangements in the implementation of the
ASEAN Dollar. Otherwise the ASEAN governments may raise loans because of
unaffordable monetary capacity. The proposed measures support tariff streamlines by:
Agarwal, Penm, Wong & Martin "ASEAN DOLLAR : A Common Currency Establishment for
Stronger Economic Growth of ASEAN Region"

14


a) Setting limits to government budget deficits and bond issues
According to the Maastricht Treaty, the budget deficit of any Euro member
country should not exceed 3% of GDP, and the government bond issue should not
exceed 60% of GDP. In reality, two core countries - France and Germany - have
already violated those two limits. The European Central Bank warned that both
France and Germany should follow the regulations to reduce their increasing
budget deficits, as otherwise the reputation of the Euro would be damaged.
However both France and Germany ignored this warning and the EU
conditionally accepted their violation. Consequently these two regulations have
lost their effectiveness. In the course of implementing the ASEAN Dollar, it is
necessary to carefully plan the limits of the budget deficit of a member country.
The AECC should propose to use the two most important criteria a reduction in
conflicts between ethnic groups and an improvement in employment opportunities
and then establish an independent budget deficit limit for each member country.

b) Principles of introducing new taxes:
In the implementation of the ASEAN Dollar, the harmony principle can be
adopted when introducing new taxes. For instance, this implies imposing property
tax, and death duties with a major impact on wealthy people. Wealthy people may
necessarily have to pay those taxes, and cannot shift their burden to other people.
For those ASEAN countries which have already imposed those taxes, it might
require an increase in current tax rates.

The paper only introduces examples to illustrate the principles to be adopted in
practice. The economic and monetary teams of the AECC need to undertake
detailed investigation of all these areas to provide useful and valuable approaches
and to seek the approval of these approaches by the AECC, and then to implement
the agreed strategy. Further, simulations need to be undertaken as part of this
Agarwal, Penm, Wong & Martin "ASEAN DOLLAR : A Common Currency Establishment for
Stronger Economic Growth of ASEAN Region"

15

program to accurately assess the impact on the economy and the general public.
The paper suggests conducting such simulations in Malaysia first. A comparison
of likely outcomes, with actual results, may lead to a report including appropriate
implementation plans for the remaining ASEAN countries.

VI. The ASEAN Central Bank (ACB)
6.1 The special status of the ACB
The ACB is proposed to be a Central Bank across the ASEAN region, following the
model of the European Central Bank (ECB) and the Federal Reserve Board. It will be the
third monetary institution at the international level without specific government
monitoring. In the establishment of the AECC, the role of the ACB must be to become a
steadfast and independent institution whose mission is to undertake long-term planning
so that ASEANs external monetary policy supports and strengthens the ASEAN Dollar.

6.2 The organisational structure of the ACB
Analogous to the ECB, the organisational structure of the ACB is briefly shown in Figure
3.
Figure 3
The organisational structure of the ACB
Governing Council


Executive Board


National Central Bank
(of member Countries)


Agarwal, Penm, Wong & Martin "ASEAN DOLLAR : A Common Currency Establishment for
Stronger Economic Growth of ASEAN Region"

16

6.2.1 Governing Council
The Governing Council (GC) will be the highest authority of the ACB. The members of
the GC comprise representatives of the AECC member countries, members of the
Executive Board, the Governors of the Central Banks of all ASEAN member countries
and two Non-voting members each from World Bank and IMF as observers. In principle,
the Management Meeting (MM) of the GC will be called monthly with a quorum of two
thirds of all members, where no crucial issues are to be decided. The Chairperson of the
MM will be elected in turn in each calendar year. A flowchart of the decision process of
the MM is shown in Figure 4 below.

Figure 4.
Flowchart on issues

a) Every attendee has one vote, and all voting is related to the
external monetary policy of the AECC.


b.1) For general issues, a decision can be made with at least two thirds
of for votes. The Chairperson has normal voting rights, and can
cast a deciding vote.


b.2) For special issues, the decision will be linked to the number of
capital shares held by each country in the ACB. The voting rights
will be proportional to the number of ACBs capital shares held by
each voter. This number of ACBs capital shares will be adjusted
once every five years. One model describing the allocation of
capital shares is outlined below

c) The ACB may announce the decisions made by the MM.
Agarwal, Penm, Wong & Martin "ASEAN DOLLAR : A Common Currency Establishment for
Stronger Economic Growth of ASEAN Region"

17


6.2.1.1 The main activities of the MM
The main activites of MM should be
a. Approve the qualifications of each of the ASEAN member countries which
meet the criteria to become eligible for the ASEAN Dollar
b. Approve the title of the ASEAN Dollar
c. Establish the external monetary policy of the ACB
d. Establish the ACBs capital amount and share distribution principle.

The capital amount of the ACB may be tentatively set at ten billion US Dollars under the
assumption that the ACB may be established in 2010. This capital amount may become
valid on the approval of the MM. To establish the share distribution principle, this paper
may follow the Euros distribution approach. The weighting principle will use a uniform
distribution approach, which utilises the population of each ASEAN member country at
the end of 2009, and the average growth rate of the GDP of each ASEAN country from
the period 2003 through to 2009. The capital amount may be paid in by the Central Bank
of each ASEAN country. Those ASEAN countries meeting the ASEAN Dollar criteria
may pay first. The total payment may be the receivable capital of the ACB. For those
remaining ASEAN countries, their distributed payment amount may be held back, and
they may make their payment after they meet the ASEAN Dollars criteria. Note the
ASEAN Dollar may not be inaugurated before 2010.

6.2.2 Executive Board
a) Members
The Board may consist of six non-continuing members appointed from the
Governors of the Central Banks of the ASEAN countries meeting the ASEAN
Dollar criteria. If the number of those ASEAN countries is less than six, then the
vacant membership(s) wont be filled until any of the remaining ASEAN
countries meet the criteria. The term of each member may be eight years. The
Agarwal, Penm, Wong & Martin "ASEAN DOLLAR : A Common Currency Establishment for
Stronger Economic Growth of ASEAN Region"

18

members appointed may select a President and Vice-President respectively with a
term of four years. The President and the Vice-President can only be selected for
one term.

b) Activities
b.1 Implement the external monetary policy approved by the Governing Council;
b.2 Formulate the monetary policy for the ASEAN region;
b.3 Promote the circulation of the ASEAN Dollar;
b.4 Stabilise the exchange rates of the ASEAN Dollar;
b.5 Stabilise interest rates in the ASEAN region;
b.6 Operate the remaining financial instruments;
b.7 Publish Monthly Bulletins including relevant statistical data and annual
reports;
b.8 Adjust the money supply and monitor its annual growth.

6.2.3 National Central Banks
The existing National Central Banks (NCBs) of the ASEAN member countries may be
the core agencies to implement the monetary policy approved by the ACB. In the course
of introducing the ASEAN Dollar, the current organisational structures of NCBs may
remain, however their activities may necessarily change.

a. After the inauguration of the ASEAN Dollar, the forex and credit risks in the ASEAN
should reduce. Governments and private industries can rely on the ranking
information provided by the credit assessment institutions to attract money inflows in
the international capital markets. In particular the ASEAN bond markets have not as
yet reached a healthy market rating. ASEAN investors are likely increase their
dependence on the ranking information provided by the credit assessment institutions,
and then understand the appropriate assessment on shares and bonds. Consequently in
future the role of issuing shares and bonds may be undertaken by ASEAN markets,
Agarwal, Penm, Wong & Martin "ASEAN DOLLAR : A Common Currency Establishment for
Stronger Economic Growth of ASEAN Region"

19

replacing local banks which now provide industry and business with money. The role
of banks is expected to change from that of lenders to that of investment advisors.
Thus banks may need bank managers with backgrounds that can ensure they can
adjust to the new financial environment.
b. Currently the US Dollar, the Euro and the Japanese Yen are a set of popular
currencies used in the ASEAN region. After the inauguration of the ASEAN Dollar,
the ASEAN countries will have to progressively adjust their trade settlement
currency, financial assets and foreign reserve levels, and ultimately will all use the
ASEAN Dollar as their preferred denominated currency.
c. After the inauguration of the ASEAN Dollar, it is likely to become a focus for
international capital flows in the region. In the short-term, the ASEAN Dollar may
attract capital outflow from the USA and Europe to the ASEAN. The increased
capital flow, may assist banks to become more efficient, fee structures may adjust,
and these developments may increase the competitiveness among banks. In order to
decrease the operational costs, banks may undertake merger and cooperative
activities, and thus increase the monitoring responsibility of the ACB.

VII. Foreign Exchange Policy
7.1 Floating exchange rate
With the launch of the ASEAN Dollar, it is proposed for it to follow the international
currencies such as the USD, the Euro, the British Pound, the Indian Rupee and the
Japanese Yen, in adopting a floating exchange rate approach (in a managed float, as in all
these cases). The paper suggests the use of sophisticated forecasting techniques to
produce a balanced exchange rate between the ASEAN Dollar and a basket of currencies
having USD, EURO, JPY and few others. To begin with, the exchange rate the ASEAN
Dollar has to be fixed against the basket of currencies for its formal launch into the
international financial markets. The first exchange rate may heavily affect the future
movements of the ASEAN Dollar exchange rate, and thus should be carefully structured.
The strategy used by the ECB to launch the Euro as the currency in use before launching
Agarwal, Penm, Wong & Martin "ASEAN DOLLAR : A Common Currency Establishment for
Stronger Economic Growth of ASEAN Region"

20

it physically into circulation is good and sound. Thus, the sound foreign exchange rate
policy may be crucial in the process of establishing the ASEAN Dollar. This policy aims
to improve the overall economy in the ASEAN region, rather than seeking to compete
with international currencies such as the US Dollar and the Euro. The international
capital flows have a profit-seeking feature, which may create fluctuations in ASEAN
forex markets. In order to cope with this quickly changing environment, the ASEAN
Dollar needs to work towards a stable exchange rate. It should unify the ASEANs
financial market movements, and promote an integrated ASEAN economic structure to
avoid unnecessary competitiveness. It will also need to establish a role in the
international currency scheme, with acceptable status. The ten ASEAN countries have
different business cycles and economic features, and the ASEAN Dollar needs to
overcome the possible conflicts that could arise for a unified ASEAN currency, if
economic interests of individual countries were separately promoted. Thus the paper
suggests that the ASEAN Dollar should use the experience of the international major
currencys forex policy to gain the confidence of international investors. The ASEAN
Dollar will also maintain a stable exchange rate to sustain a confidence in the ASEAN
Dollar.

7.2 Review of the Euro movements
The Euro became the official currency in the European Monetary Union on 1 January
1999. The exchange rate of that day was 1 Euro: 1.16675 US Dollar, and soon the
relative weakness of the Euro became a feature of foreign exchange markets. According
to the European Central Bank (ECB) Monthly Bulletin, the average monthly value of the
Euro relative to the US Dollar fell to the lowest rate of 1 Euro: 0.853 US Dollar. The
Euros weakness up to that period confounded earlier general expectations that it would
trend upwards relative to the US Dollar (see ECB Monthly Bulletin, February 2001).
Three member countries of the European Union Great Britain, Denmark and Sweden
have refused to join the Euro. Initially the Euro was designed so that the budget deficit
should not exceed 3% of the GDP, the government bond issue should not exceed 60% of
Agarwal, Penm, Wong & Martin "ASEAN DOLLAR : A Common Currency Establishment for
Stronger Economic Growth of ASEAN Region"

21

the GDP, and the annual growth rate of the money supply (M3) was set to the reference
value of 4.5%. Those three items were all crucial. After the introduction of the Euro, the
ECB wished to attract investors to the European financial markets, and relaxed the
restriction on the annual growth rate of M3. Consequently this three-month calculated
index increased to a maximum of 8.1% in February 2003, and led to spillover effects on
the Euros exchange rate. Brailsford et al (2004) suggest that those foreign reserves of the
ECB could be used to influence movements in the Euros exchange rate. The amount of
foreign reserves currently required to again achieve a targeted Euro exchange rate, quite
specifically the initial rate existing on 1 January 1999, was estimated. The paper
proposed by Brailsford et al (2004) was initially presented at the 2002 European
Financial Management meetings held in London. On 23 May 2003, the Euros exchange
rate increased to 1 Euro: 1.1837 US Dollar and on 2
nd
April the exchange rate is 1 Euro :
US Dollar. This outcome provides valuable experience for the ASEAN Dollars exchange
rate after the introduction of the ASEAN Dollar, namely how to achieve a targeted Euro
exchange rate which continues to meet exchange criteria.

7.3 Forecasting techniques
We aim to investigate the time-series relationship between the estimated integration
levels, market-based measures of capital flows and market volatility. As the relationships
between these three variables are expected to be both non-contemporaneous and cross-
country in nature, a vector autoregressive (VAR) framework is utilised. In addition, a
number of unique features of the variables create estimation problems. First, the
stationarity properties of the variables in time-series need to be carefully considered. We
develop a procedure that allows the estimation with a mixture of I(0) and I(1) processes
within the context of a vector autoregressive and moving-average (VARMA) framework.
Specifically, two procedures are implemented, the zero-non-zero (ZNZ) patterned VAR
modelling, and the ZNZ patterned vector error-correction modelling (VECM). Further,
due to the size of the relationships being estimated (to illustrate, there may be 4 variables
x 25 economies x 12 lags), some structure needs to be imposed on the VAR. To establish
Agarwal, Penm, Wong & Martin "ASEAN DOLLAR : A Common Currency Establishment for
Stronger Economic Growth of ASEAN Region"

22

relationships between the variables, balanced state-space modelling is used to conduct
analysis of the impulse response function, and tests of cointegration and Granger
causality. A bootstrapping procedure is used to create greater insight into the distributions
of the estimates and proposed projections obtained from the VAR and other models.

We plan to conduct the modelling by using a structural three-stage approach. In the first
stage, the VAR for each economy need to be constructed for preliminary analysis. In the
second stage economies with (expected) similar characteristics need to be grouped into
clusters, thereby substantially reducing the size of the system. The VARs constructed in
the first stage constitute building blocks for the block diagonal part of the VAR for each
cluster. The interconnecting off diagonal blocks between each economy in a cluster is
then to be estimated to produce a VAR for each cluster. Analogously we can construct a
final VAR for all economies in the third stage, with the VAR for each cluster providing
the block diagonal building blocks for the final VAR. In this way the final VAR can then
be established, and indeed the basis for decomposition into interactive or independent
groups developed. Under this approach, the problem of scale reduces to a manageable
size and one that can be confidently handled.

The spill-overs can be identified from the off-diagonal coefficient entries of the ZNZ
patterned VAR models with the relevant variables included in the models.

Fourth, we aim to conduct PPP testing and currency cointegration to assist with assessing
the practicability of a currency union to underpin an integrated stock market in the Asia-
Pacific. PPP has important implications for explanation of exchange rate movements and
exchange rate forecasting in the long-term. If, for example, the PPP of a local currency is
shown to be out of line in the long-term, then the currency can be expected to appreciate
or depreciate against the foreign currency in the long-term. Many theoretical and
empirical models have been built on this theory, but a survey of empirical testing
provides inconclusive evidence of its existence. In general, most studies tend to reject
Agarwal, Penm, Wong & Martin "ASEAN DOLLAR : A Common Currency Establishment for
Stronger Economic Growth of ASEAN Region"

23

PPP in the short-run while in the long-run there is both evidence supporting and rejecting
PPP (MacDonald, 1995). One factor contributing to these mixed results relates to the
procedure used in testing. In recent years the theory of cointegration has been widely
applied to tests of PPP. If the individual variables involved in the PPP relationship,
namely the nominal exchange rate and the ratio of domestic to foreign prices, are non-
stationary, but a specific linear combination of them is stationary, then PPP is claimed to
hold.

For currency cointegration, Aggarwal and Mougou (1996), and Tse and Ng (1997)
conducted cointegration investigations among selected Asia-Pacific currencies which did
not include Australia. Their findings indicated that cointegrating vectors exist among
these currencies. The more successful a currency union becomes, the more integrated will
be the movements of these currencies. These results suggest evidence supporting the
formation of a currency union.

However previous researchers tested for cointegrating relations in full-order VECM
modelling. The full-order structures contain nonzero elements in all their coefficient
matrices. The important area of application involves modelling forex market movements
and the interaction between relevant monetary variables. There is a high probability that
the model structures will involve zero entries in the coefficient matrices. Specifically, in
tests of indirect causality and/or Granger non-causality in the framework of a VECM, the
power of causality detection is crucially dependent upon finding zero coefficient entries
where the true structure does indeed include zero entries. This VECM, with allowance for
possible zero entries in the coefficient matrices, is referred to as a ZNZ patterned VECM.
Recent advances have shown how ZNZ patterns can be explicitly recognised in a VECM.
The results of simulations and applications of this approach have revealed that the
selected optimal patterned VECM provides an effective means of detecting cointegrating
relations and Granger causal relations from the coefficient matrices.

Agarwal, Penm, Wong & Martin "ASEAN DOLLAR : A Common Currency Establishment for
Stronger Economic Growth of ASEAN Region"

24

In this proposed market ZNZ patterned VECM modelling will be utilised to investigate
PPP testing and currency cointegration including the Australian Dollar. In addition, some
important techniques developed for linear models can be extended to non-linear
modelling. For example we have applied a computationally efficient tree-pruning
algorithm in conjunction with model selection criteria to select the optimal patterned
VECM with ZNZ patterned cointegrating and loading vectors for an I(1) system (Penm et
al 1997, 1999). This algorithm is suitable for studies of seasonal, temporary and
fractional cointegration, and has been extended to an I(2) system (Brailsford et al 2002).
In Penm et al (2000) we have proposed procedures using a neural network approach, in
conjunction with model selection criteria, to select the optimal ZNZ patterned model. The
optimal parsimonious model is then used as the basis for capturing non-linear
relationships and conducting forecasting. With these methods applied to financial
structures of currency systems, the modelling of such financial structures using optimal
neural networks will lead to a better understanding of PPP investigation and currency
cointegration, and result in a better understanding of the nature of market integration.

7.3.1 Establish a floating region for the exchange rate
The floating region of the ASEAN Dollar exchange rate will be a 5% upper and lower
tolerance limit centred on the exchange rate on the first day of the introduction of the
ASEAN Dollar. Money supply and foreign reserves in the ASEAN region will be used as
adjustment instruments, and forecasting techniques will be used to formulate adjustment
approaches. If the exchange rate fluctuations in the forex markets exceed tolerance limits,
forecasting techniques can predict these changes, and money supply and foreign reserves
can be used to adjust the fluctuation size. Fluctuations can then be held within the
floating region, and the stability of the ASEAN Dollar exchange rate can be achieved.

7.3.2 Fixed exchange rate
The currency exchanges among the ASEAN member countries will use a fixed exchange
rate approach. We assume that the ASEAN Dollar will be introduced in the year 2012.
Agarwal, Penm, Wong & Martin "ASEAN DOLLAR : A Common Currency Establishment for
Stronger Economic Growth of ASEAN Region"

25

On the first day of the introduction to the ASEAN Dollar, the exchange rate between the
ASEAN Dollar and the basket will be locked in. The fixed exchange rates among the
ASEAN countrys currencies will also be fixed before the end of 2011. The fixed
exchange rates between the ASEAN Dollar and the ASEAN countrys currencies will be
calculated, and then used to undertake currency exchanges. Subsequently the calculated
exchange rates will be locked in. In the ASEAN region, Malaysia is likely to be the
simulation country for the ASEAN Dollar. Malaysia has used the fixed exchange rate for
a long period, and has valuable experience. Thus Malaysia is capable of leading the
remaining ASEAN currencies to the fixed exchange rate between the Malaysian and
ASEAN currencies. The approach will be applied to other countries when they are
qualified to join the ASEAN Dollar. If an ASEAN country initially insists on the use of
the floating exchange rate between its national currency and the ASEAN Dollar, this
country must adopt a fixed exchange rate before their formal introduction to the ASEAN
Dollar. No exception is to be allowed.

7.3.3 Currency exchange
We assume that the ASEAN Dollar may be introduced on 1 January 2012. The ASEAN
Dollar shall co-exist with the existing currencies of those ASEAN countries meeting the
ASEAN Dollar criteria. The existing currencies will be used in cash transactions only.
The ASEAN Dollar must be used as the denominated currency in transactions on the
capital market for government loans and bond issues in the ASEAN region. This two way
accounting system may be undertaken within the next three years. From 1 January 2015
the ASEAN Dollar, in note or coin forms, may start replacing the old existing currencies
of those ASEAN countries. This replacement task may be completed before 1 July 2015.
On 1 July 2015 the old existing currencies may become non-acceptable, when the
ASEAN Dollar will become the only official ASEAN currency.

7.3.4 The relationship between the ASEAN Dollar and those ASEAN countries not
joining the ASEAN Dollar.
Agarwal, Penm, Wong & Martin "ASEAN DOLLAR : A Common Currency Establishment for
Stronger Economic Growth of ASEAN Region"

26

In the course of implementing the ASEAN Dollar when the ASEAN countries join the
ASEAN Dollar, the exchange rate between the ASEAN Dollar and the existing
currencies of those countries not joining the ASEAN Dollar must be clearly settled,
through not necessarily fixed. No confusion is to be allowed, or otherwise the spillover
effects could damage the financial markets supported by the single ASEAN currency, and
invoke adverse competition. Several pre-crisis studies have shown that cross-market
linkages are weak, which negates any justification to treat the Asian countries as a block
in a mean-variance maximization objective. For instance the study of Eun and Shim
(1989) finds week linkages between Hong Kong and Japan by using variance
decomposition and impulse response functions using a Vector Auto Regression model
(VAR) to assess the strength and innovations from one market to the others from
December 1979 to December 1985. The findings of Lee, Petit, and Swankoski (1990)
study investigating the daily return relationships among Korea, Singapore, Hong Kong,
Japan and Taiwan from January 1980 to December 1988 suggests that the returns on the
Asian exchanges are segmented. Also a continuation work of Eun and Shim, Chowdhury
(1994) uses a VAR to study the stock market interdependencies in four Asian countries
(Hong Kong, Singapore, Korea and Taiwan) from January 1986 to December 1990. The
authors do not find significant links between these four stock markets; though the first
two were responsive to financial and technological innovations in the US and Japan.
These findings were corroborated by other similar studies from Chan, Gup and Pan
(1992), Defusco, Geppert and Tsetsekos (1996), Liu and Pan (1997) and Agarwal and
Agarwal (2001).

VIII. The Policy of the ASEANs International Trade
The policy of ASEANs international trade may be initialised and driven by the AECC.
The policy should be an extension of the ASEANs foreign exchange policy. The aim is
to maintain a balanced international income and expenditure account, a balanced ASEAN
current and capital accounts, and a stable exchange rate of the ASEAN Dollar. The scope
of section 8 consists of the various economic activities undertaken between ASEAN
Agarwal, Penm, Wong & Martin "ASEAN DOLLAR : A Common Currency Establishment for
Stronger Economic Growth of ASEAN Region"

27

residents and foreign residents over a specific period. Decision about international trade
policy may depend on movements of the international balance sheet. The ASEAN Bureau
of Statistics need to regularly complete this balance sheet, and analyse the dynamics of
the international income and expenditure. Details are provided in the following table -
monthly balance of payments.
Agarwal, Penm, Wong & Martin "ASEAN DOLLAR : A Common Currency Establishment for
Stronger Economic Growth of ASEAN Region"

28

Table 1
Monthly Balance of Payments

Items Current month
balance
Previous
month balance
+ or
%
Reasons/Comments
For change
A. Current Account
Goods; export f.o.b

Goods: imports f.o.b

Balance on Goods

Services: credit

Services: debit

Balance on Goods and Services
Income: credit
Income: debt
Balance on Goods services, and income
Current transfers: credit
Current transfer: debit

B. Capital Account
Capital account: credit
Capital account: debit
Total, group A plus B

C. Financial Account
Direct investment abroad

Direct investment in ASEAN

Portfolio investment assets

Equity securities

Debt securities

Portfolio investment liabilities

Equity securities

Debt securities

Other investment assets

Monetary authorities

General government

Banks

Other sectors

Other investment liabilities

Monetary authorities

General government

Banks

Other sectors

Total, groups A through C


D. Net Errors And Omissions

E. Reserves
Note: 1. Services denote invisible trade, which comprises
1.a) Transport services including passenger transportation, goods transportation, and others such
as airport and international harbour fees
1.b) Tourism
Agarwal, Penm, Wong & Martin "ASEAN DOLLAR : A Common Currency Establishment for
Stronger Economic Growth of ASEAN Region"

29

1.c) Other services including communications, building, insurance, finance, information
technology, patent charges, triangular trade, operations and leasing, commission charges,
personal, cultural and leisure services and government services.
2. Income includes the investment income received from the forex assets of the ACB, and the
investment income including share income from the non-ASEAN region by the ASEAN
residents.
3. Expenditure includes share income in the ASEAN region by the foreign residents and
interest paid to foreign residents in the ASEAN region by international monetary
institutions.
4. The ASEANBS will complete this preliminary balance of payments within the last ten days
of each month, and submit it to the AECC for approval
5. Women are particularly welcome to be involved in editing this balance of payments.
Women are cautious, responsible and generally have a clear mind.

8.1 The use of the foreign reserves
The ACB is to be responsible for the use of the foreign reserves, which is the most
important item in Table 1. First the ACB needs to ascertain the safe level of the foreign
reserves. Unless it is absolutely necessary, the foreign reserves should not go below this
safe amount with 5% variation. The amount of the foreign reserves in excess of this safe
level is called the buffer amount. The ACB can use the buffer amount to achieve its
policy targets. One approach is for the ACB to distribute and loan (the excessive
amount) to privately operated business and industry in the following priority order.

a. The new export-oriented industry, which uses foreign exchange to purchase
overseas skills, equipment and plant. This industry may have the first priority
for use of the buffer amount of the foreign reserves
b. Import-replacement industry, which produces goods for the domestic market
to substitute for imported goods. If this industry needs to purchase overseas
skills, equipment and plant, then this industry may have the second priority
c. On-going and established industry which produces goods for the domestic
market. If this industry needs to purchase overseas skills, equipment and plant,
then this industry may have the third priority.
d. Any other as the ACB may decide.

Agarwal, Penm, Wong & Martin "ASEAN DOLLAR : A Common Currency Establishment for
Stronger Economic Growth of ASEAN Region"

30

The ACB can set different loan interest rates for those three above-mentioned industries.
If an industry cannot obtain the foreign exchange loans because there is an insufficient
amount of buffer foreign exchange, the industry can reserve loan rights until the buffer
foreign reserves become available.

8.1.1 Special bonus
Firms which undertake to establish, or operate, business in Vietnam, Cambodia, Laos,
and Myanmar may be offered a special bonus. The ACB should provide interest-free
foreign exchange loans to such firms for purchases of overseas skills, equipment and
plant. The ACB should also introduce the concept of a single market to avoid
unnecessary business overlapping and competition.

8.2 Free Investment
The ASEAN Coordinating Committee on Investment held its 17
th
meeting in Indonesia
from 27
th
-28
th
January 2003. Brunei, Thailand, Indonesia, Philippines, Myanmar,
Singapore and Malaysia agreed to open their manufacturing industry to all ASEAN
member countries from 1
st
January 2003. Investors in manufacturing industry from the
ASEAN region may be treated as local citizens. In addition, Vietnam, Laos and
Cambodia agreed to adopt this approach from 1
st
January 2010. From 2020, those
agreements will be applied to investors from all industries and promote free flows of
capital, skilled workers, experts and technology. The zero tariffs and the ASEAN Dollar
are scheduled to be introduced in 2010. Those approaches will provide attractive
elements in the process of free investment in the ASEAN, and accelerate overall
progress. Further, the foreign exchange loans provided by the ACB are expected to speed
up the development of ASEANs manufacturing industry, and thus add a new group of
participants to ASEANs international trade.

8.3 Free channels of international money to the ASEAN
Agarwal, Penm, Wong & Martin "ASEAN DOLLAR : A Common Currency Establishment for
Stronger Economic Growth of ASEAN Region"

31

Singapore and Brunei are two international financial centres in the ASEAN region.
Brunei operates a favored tax system to offshore companies and free of foreign exchange
control. Thus Brunei has quickly developed into a new international financial centre, and
outperforms Singapore. A large amount of international money has been attracted to
Brunei, and a large number of international companies are registered in Brunei. Those
companies can avoid taxes required in their original registration country, without paying
company tax in Brunei. Thus those companies carry a lighter tax burden than those
registered in other ASEAN countries, and even pay lower tax than Hong Kong. Measures
deserving of note are as follows

a. Permit a company to use a Chinese title
b. Not require registration of a companys capital
c. Allow for protection by the international commercial laws
d. Permit an offshore company to develop and operate business and investments
e. Obtain the support of the internationally large banks to provide all financial
services.

The ASEAN region comprises a large hinterland, and thus has an excellent potential to
undertake the development of finance, insurance and investments.

IX. Measurement of the evolution of financial market integration
As a further study, we aim to produce indicators for the ASEAN region. Research will be
undertaken on complex and evolving systems of financial market integration, which often
comprise a large number of interacting components. The results will improve
understanding of the behaviour in ASEAN financial markets and produce improved
indicators of financial integration.

In the next phase of our study, we intend to empirically evaluate the usefulness of the
indicators according to three criteria. First, the economic impact of the indicators and the
Agarwal, Penm, Wong & Martin "ASEAN DOLLAR : A Common Currency Establishment for
Stronger Economic Growth of ASEAN Region"

32

consistency with market developments. Second, the availability of data needed for
constructing the indicators and the ease with which these indicators can be regularly
updated. Third, the reliability of the data on which the indicators are based. After the
evaluation, recommendations will be made on measuring financial integration in the
ASEAN region.

In addition to point estimates for the indicators, we will also produce confidence
intervals, which will be generated using double bootstrap and/or moving block bootstrap
procedures. Such a development is likely to enhance the usefulness of the indicators. A
comparison will be undertaken between the indicators produced by the improved
methodologies and those reported in previous studies.

Economic and financial integration indicators will be applied to measure the following
three broad financial categories in the ASEAN countries:

A) Credit and bond market integration and cointegration to establish the nature of short
and long-term co-movement;
Traditional tests for capital and bond market integration have been focused on the
examination of interest rate differentials among regional markets using the
covered, uncovered or real interest rate parity conditions. This approach works
well for financial markets under a common currency where there is no risk of
currency movements. For testing integration of capital and bond markets in
different currency areas, however, approximations will be required for the
expectations of future currency movements that are involved in the above parity
conditions. Such approximation often yields significant measurement errors
(Cavoli, Rajan and Siregar, 2003).

In recent studies, VECM modelling has been utilised to measure capital and bond
market integration (Kleimeier and Sander, 2001). This concept is based on the
Agarwal, Penm, Wong & Martin "ASEAN DOLLAR : A Common Currency Establishment for
Stronger Economic Growth of ASEAN Region"

33

requirement that, if credit and bond markets are integrated, interest rates among
different countries should exhibit a long-term equilibrium relationship, despite the
presence of short-term deviations.

Although the adoption of the cointegration theory, and hence the VECM, has
significantly improved the efficiency of integration indicators for credit and bond
markets, further improvements are achievable by incorporating newly developed
modelling techniques, such as the zero-non-zero patterned VECM, the forgetting
factor and financial neural networks. As demonstrated by Penm et al (1997), the
zero-non-zero patterned VECM produce superior estimates to the traditional full-
order models, especially in small samples. The forgetting factor is a data
weighting process that gives more weight to recent observations and less to earlier
data. The estimates so obtained are superior to those from conventional methods
(Penm et al 2002). Some recently developed financial neural network techniques
are also expected to result in improvements in the estimation (Penm et al 2000).

B) Stock market integration and cointegration to establish the nature of short and long-
term co-movement; and
Over the past decade, financing through stock markets has increased its
importance in developing countries. Consequently, another measure of financial
integration of regional capital markets involves examining co-movement in stock
market returns. Tests for stock market integration have been focused on
correlation or Granger causality tests among returns in regional stock markets.
Recently, cointegration theory has also been utilised in examining integration in
international stock markets (Ratanapakorn and Sharma, 2002).

In this project, we intend to construct financial neural networks and VECMs to
examine the degree of integration in ASEAN stock markets. Implicit in this
process is the identification of the relevant influence of local and global risk
Agarwal, Penm, Wong & Martin "ASEAN DOLLAR : A Common Currency Establishment for
Stronger Economic Growth of ASEAN Region"

34

factors on the returns for each market. Research on these issues will contribute to
an improved understanding in the area of investors behaviour and finance.

Issues that we would like to address in this part of the project include the possible
existence of time varying risk premium and/or structural or evolutionary changes
in ASEAN stock markets (Bekert, and Harvey, 1995). The empirical findings
resulting from this examination will have important implications for the
estimation of financial integration indicators.

C) Exchange rate market integration and cointegration to establish the nature of short
and long-term co-movement.
An important element in regional financial integration relates to exchange rate
market integration in the region. Previous studies have attributed the presence of
risk premium in credit, bond or stock markets to exchange rate volatility. Hence,
the effect of currency movements on regional financial integration needs to be
investigated.

For currency markets, we propose to examine, with a systems approach, the
presence of long-term purchasing power parity conditions among regional
currencies (see Penm et al 2003); the short-term spill over effect of the
volatility among regional currencies; and the implications of currency volatility
on regional capital and equity markets.

For the spill over effect of currency volatility, we intend to examine empirically
the channels of spill over. This issue is complicated by the large number of
markets involved in the examination, combined with the possibility of time-
varying relationships. The investigation of time-varying relationships in spill
over will be another key component of this proposed project.

Agarwal, Penm, Wong & Martin "ASEAN DOLLAR : A Common Currency Establishment for
Stronger Economic Growth of ASEAN Region"

35

To examine the effect of currency volatility on regional capital and equity
markets, focus will be placed on market returns that will be decomposed into risk
free rates and risk premium factors. We intend to study the linkages between the
risk premium and currency volatility, as well as co-movement between the risk
free rates in regional markets. Brailsford et al (2001) provided empirical evidence
of the influence of exchange rate movements in equity market fluctuations for
some Asian markets. The approach adopted in their study will also be useful for
this study.

X. Conclusion

Adverse shocks in the last one decade followed by sustained economic growth in most
Asian economies has regained the confidence in a stronger and stable Asia. The revival
has been sponsored by growth of exports, self sufficiency, conservative approach along
with the welcome of modern means of financing growth and consumption. A large
proportion is also contributed by increase in the government spending for infrastructure
development and growth. Given the attention paid to financing issues and the volatility in
capital flows observed in the last five years investment, bank lending and per capita
growth has not seen the expected rise. This weakness has been addressed due to some of
the negativity due to crisis-affected economies. Some may consider this as negative;
however, we believe it is a needed correction for a stable and strong foundation for
sustained growth in future.

Our research findings in the article titled A Proposal for A Common Financial Market
for the Asia-Pacific proposed the framework of a single currency in Asia-Pacific
6
.
Subsequently finance scholars have shown an enthusiastic response [Penm et al (2003)].
There are many countries in the Asia-Pacific region, and the wealth gap between poorer
and richer nations is large, hence the progress of the establishment of a single currency in

6
SSRN Networks - http://papers.ssrn.com/sol3/papers.cfm?abstract_id=322961
Agarwal, Penm, Wong & Martin "ASEAN DOLLAR : A Common Currency Establishment for
Stronger Economic Growth of ASEAN Region"

36

the Asia-Pacific will have difficulties. Consequently we can reduce the scope of research
initially, and start working on the ASEAN region, by selecting Malaysia as a prime
experimental country for the ASEAN Dollar. After a preliminary successful outcome is
achieved, we can then progressively extend the approach to remaining ASEAN countries.
This strategy is likely to be the most effective. We use the experience of the introduction
of the Euro as a blueprint, and then undertake modifications according to the economic
situation of the ASEAN region. We also select the simulation approach, and
progressively incorporate experience gained in this way to improve its performance. Then
the ASEAN Dollar will be officially introduced. In particular, we use the monetary
arrangements, foreign exchange policy, international trade policy and forecasting
techniques (The Central Banks of China (Taiwan) Annual Report 2002) to demonstrate
the conception of the research.

Economic performance in the Asia-Pacific region (excluding Japan) has been impressive,
with real GDP increasing by over 6 percent in 2002, and the smaller relatively open
economies turnaround relative to 2001. This strong growth - at a time when the recovery
in industrial countries has been relatively week - has raised the issue of whether Asian
economies have become less reliant on demand from outside the region following the
WTO-linked opening of China and increased inter-regional trade. With the rapid export
growth seen in the first half of 2002 now slowing, the question of whether growth in Asia
has become more self-sustaining is important, particularly if the weakness in the global
electronics sector evident since mid-2002 persists.

In this literature, the theoretical models produce no general, univocal result regarding
the desirability of a structure with an independent central bank versus one with a
dependant monetary authority. In fact, considering the industrialized countries, while the
relationship between independence and control over inflation seemed sufficiently robust
and convincing (Cukierman, 1994; Berger, de Haan and Ejffinger, 2000; Alesina and
Gatti, 1995), the relationship between independence, on the one hand, and fiscal and real
Agarwal, Penm, Wong & Martin "ASEAN DOLLAR : A Common Currency Establishment for
Stronger Economic Growth of ASEAN Region"

37

variables(Cukierman, 1992), on the other, was far from certain. Hence, the theoretical
cost-benefit analysis of alternative monetary regimes could not be considered
conclusive. If we apply these models to the case of ACB, we have to conclude that the
establishment of a ACB could improve the inflation performances in the countries
member of the ASEAN Monetary Union, but we do have not at the moment have any
theoretical robust proof that the establishment of such independent central bank will
improve the fiscal discipline as well as more important in the area? the growth
performances. Though, the presence of FRB in US, ECB in Europe, RBI in India are
indicative of a positive signal.

Furthermore it would be nice to stress that the above theoretical conjectures have been
verified with comparative, institutional and empirical analysis. After constructing
indices of independence of the central banks
7
, and having historical alternative models
of independent and dependent monetary authorities (Toniolo, 1988), the literature
attempted to determine whether the degree of legal independence could be considered an
independent variable in explaining important macroeconomic phenomena: inflation,
deficits and public debt, income and growth (Alesina and Summer, 1993, Cukierman,
1994 and Berger, de Haan and Eijffinger, 2000). The empirical results confirmed the
theoretical thesis.

The question of whether The ASEAN Dollar should be allowed to proceed is vital. This
primarily rests on the judgment as to whether society is ready for greater economic
freedom, volatile competition and reduced controls. On the face of it, these decisions
seem to depend solely on those who govern society. However, it is society at large which
determines whether this will succeed, based on the natural law Survival of the fittest.

7
After the seminal central bank independence indices published by Grilli, Masciandaro and Tabellini
(1991) and revised in Masciandaro and Spinelli (1994), followed by Cukierman indicators (1992),
different indicators were proposed; for a discussion see Berger, de Haan and Eijffinger, (2000).
Agarwal, Penm, Wong & Martin "ASEAN DOLLAR : A Common Currency Establishment for
Stronger Economic Growth of ASEAN Region"

38

References
1. Agarwal, Aman (2003, 2002, 2001), Unified New Europe and the effect on the Global
Village, [Model for New Europe], FINANCE INDIA, Vol. XVII No 3, September 2003;
Presented at EU Institute, Columbia University, New York, USA (17th April 2001), Invited
to deliver the Keynote Address at Universitys 15th year anniversary celebration conference -
European Union, University Portucalense, Porto, PORTUGAL (8 November 2001), Panel
Speaker at conference on EU Enlargement & Deepening of Europeat Indian Institute of
Finance, INDIA (23rd July 2003)
2. Agarwal, J.D. (2004) "Volatility of International Financial Markets: Regulation and Financial
Supervision", FINANCE INDIA, XVIII No 1, March 2004; Invited to be delivered as the
Keynote Speech at the 4th International Conference in Finance, organized by Faculty of
Administration & Economics, University of Santiago de Chile, Val de Mir, CHILE, 7th
January 2004.
3. Agarwal, J.D. and Aman Agarwal (2001), Liberalization of Capital Flows, Banking System
& Trade: Focus on Crisis Situations, International Review of Comparative Public Policy
titled International Financial Systems and Stock Volatility Volume 13, pp. 151-212. Invited
to present at 18th International Conference of Finance at Namur, BELGIUM (25th-28th June
2001), at Florida International University, Florida, USA (26th September 2001), discussed
with FIU Finance faculty at Luncheon presentation, Florida, USA (27th September 2001), at
Pontific Catholic University of Rio de Janerio, Rio de Janerio, BRAZIL (22rd October 2001).
Also Discussed at few conferences in USA and UK in April and May 2001.
4. Agarwal, J.D. and Aman Agarwal (2004) Globalization and International Capital Flows;
ANANYA,Journal of National Institute of Financial Management (Invited Paper), 2004
(forthcoming issue); Invited to deliver the Keynote Address at the Two day National
Conference on Globalization Decadal Indian Experience, organized by ATMA MAYYIL
and the Institute of Technology, Kannur University, Kerela, INDIA on 17
th
January 2004
(12:00 14:30).
5. Aggarwal, R. and Mougou, M. (1996). Cointegration among Asian currencies: Evidence of
the increasing influence of the Japanese yen, Japan and the World Economy, 8, 3, 291-308
6. Alesina A. and Gatti R., (1995), Independent Central Banks: Low Inflation at no Cost?,
American Economic Review, Vol 85, pp. 196-200.
7. Alesina A. and Sachs J., (1988), Political Parties and the Business Cycle in the United
States: 1948-1984, Journal of Money, Credit and Banking, Vol. 20, pp 63-82.
8. Alesina A. and Summer L.H., (1993), Central Bank Independence and Macroeconomic
Performances: Some Comparative Evidence, Journal of Money, Credit and Banking, Vol.
25, pp. 151-162.
9. Alesina A. and Tabellini G., (2003), Bureaucrats or Politicians?, Harvard Institute of
Economic Research, Discussion Paper No. 2009.
10. Alesina A., (1989), Inflation, Unemployment and Politics in Industrial Democracies,
Economic Policy, Vol. 8, pp 55-98.
11. Bagheri F.M. and Habibi N., (1998), Political Institutions and Central Bank Independence: a
Cross-Country Analysis, Public Choice, Vol. 96, pp. 187-204.
Agarwal, Penm, Wong & Martin "ASEAN DOLLAR : A Common Currency Establishment for
Stronger Economic Growth of ASEAN Region"

39

12. Bekaert, G. and Harvey, C. (1995). Time-varying world market integration. Journal of
Finance, 50, 403-444.
13. Berger H., de Haan J. and Eijffinger S.C.W., (2000), Central Bank Independence: an
Update of Theory and Evidence, CESifo Working Paper, No. 255.
14. Berger H., 1997, The Bundesbanks Path to Independence. Evidence from the 1950s, Public
Choice, Vol. 93, pp. 427-453.
15. Berger H., de Haan J., (1999), A State within a State? An Event Study on the Bundesbank,
Scottish Journal of Political Economy, Vol. 46, pp. 17-39.
16. Bernhard W., (1998), A Political Explanation of Variations in Central Bank Independence,
American Political Science Review, Vol. 92, pp. 311-327.
17. Brailsford, T.J., Penm, J. and Terrell, R.D. (2001). The adjustment of the Yule-Walker
relations in VAR modelling: The impact of the Euro on the Hong Kong stock market.
Multinational Finance Journal, 5(1), 35-58.
18. Brailsford, T.J., Penm, J. and Terrell, R.D. (2003). Price Elasticity of the Euro to Foreign
Reserves through European Central Bank Intervention. Accepted in December 2003, and to
appear in December 2004. Finance India.
19. Brailsford, T.J., Penm, J. H.W. and Terrell, R.D. (2002). Selection of the optimal zero-non-
zero patterned cointegrating vectors from an I(2) system. Working paper, The Australian
National University.
20. Cavoli, T., Rajan, R.S. and Siregar, R. (2003), A Survey of Financial Integration in East
Asia: Trends, Issues and Implications, School of Economics, University of Adelaide.
21. Chan, K.C., Gup B.E., and Pan M.S., (1992), An empirical analysis of stock prices in major
Asian markets and the United States The Financial Review Vol 31, pp 289-307.
22. Chowdhury, A. R., (1994), Stock market interdependencies: Evidence from the Asian NIEs
Journal of Macroeconomics Vol 16 No. 4, pp 629-651.
23. Cukierman A. and Webb S.B., (1995), Political Influence on the Central Bank: International
Evidence, World Bank Economic Review, Vol. 9, pp. 397-423.
24. Cukierman A., (1992), Central Bank Strategy, Credibility, and Independence, Cambridge
MA., MIT Press.
25. Cukierman A., (1994a), Central Bank Independence and Monetary Control, The Economic
Journal, Vol. 104, pp. 1437-1448.
26. Cukierman A., (1994b), Commitment through delegation, political influence and central
bank independence, in J.O. De Beaufort Wijnholds, S.C.W Eijffinger and L.H Hoogduin
(eds), A Framework for Monetary Stability, Kluwer, Dordrecht, pp 55-74.
27. De Haan J. and Vant Hag G.J., (1995), Variation in central bank independence across
countries: some provisional empirical evidence, Public Choice, Vol. 85, pp. 335-251.
28. DeFusco, R. A., Geppert J.M., and Tsetsekos J.P., (1996), Long-run diversification potential
in emerging stock markets, The Financial Review Vol 31, pp 343-363.
Agarwal, Penm, Wong & Martin "ASEAN DOLLAR : A Common Currency Establishment for
Stronger Economic Growth of ASEAN Region"

40

29. Dominick Salvatore (1997), The Common Unresolved Problem with the EMS and EMU,
The American Economic Review, May, pp. 224-226.
30. Eggertsson G. and Le Borgne E., (2003), A Political Agency Theory of Central Bank
Independence, IMF Working Paper, No.144.
31. Eun, C. S., and Shim, S., (1989) International transmission of stock market movements,
Journal of Financial and Quantitative Analysis, Vol 24 No. 2, pp 241-256.
32. Franzese R.J., (1999), Partially Independent Central Banks, Politically Responsive
Governments, and Inflation, American Journal of Political Science, Vol.43, pp. 691-706.
33. Goodman J. B., (1991), The Politics of Central Bank Independence, Comparative Politics,
Vol.23, pp. 329-349.
34. Grilli V., Masciandaro D. and Tabellini G., (1991), Political and Monetary Institutions and
Public Financial Policies in the Industrialized Countries, Economic Policy, Vol.13, pp. 341-
376.
35. Hayo B., (1998), Inflation Culture, Central Bank Independence and Price Stability,
European Journal of Political Economy, Vol. 14, pp. 241-263.
36. Keefer P. and Stasavage D., (2001), Bureaucratic Delegation and Political Institutions:
When are Independent Central Banks Irrelevant?, Mimeo.
37. Kleimeier, S. and Sander, H. (2001), European Financial Market Integration: Evidence on
the Emergence of a Single Eurozone Retail Banking Market, research paper, European
Credit Research Institute.
38. Lee, I., Petit, R. R., and Swankoski, M., (1990), Daily return relationships among Asian
stock markets Journal of Business Finance and Accounting, Vol 17 No. 2, pp 265-284.
39. Liu, Y. A., and Pan M. S., (1997) Mean and volatility spillover effects in the US and
Pacific-Basin stock markets Multinational Finance Journal Vol 1 No. 1, pp 47-62.
40. MacDonald, R. (1995). Long-run exchange rate modeling: A survey of the recent evidence,
Staff Papers, International Monetary Fund, 42, 437-89.
41. Masciandaro D. and Spinelli F, (1994), Central Banks Independence: Institutional
Determinants, Rankings and Central Bankers Views, Scottish Journal of Political Economy,
Vol. 41, pp. 434-443.
42. Masciandaro D., (1995), Designing a Central Bank: Social Player, Monetary Agent or
Banking Agent?, Open Economies Review, Vol. 6, pp. 399-410.
43. Mundell, R.A. (1997), Currency Areas, Common Currencies, and EMU, The American
Economic Review, May, pp. 214-216.
44. Penm, J.H., Penm, J.H.W. and Terrell, R.D. (1997). The selection of zero-non-zero patterned
cointegrating vectors in error-correcting modelling. Econometric Reviews, 16, 281-304.
45. Penm, J.H.W., Brailsford, T.J. and Terrell, R.D. (2000). A robust algorithm in sequentially
selecting subset time series systems using neural networks, Journal of Time-series Analysis,
21, 389-412.
Agarwal, Penm, Wong & Martin "ASEAN DOLLAR : A Common Currency Establishment for
Stronger Economic Growth of ASEAN Region"

41

46. Penm, J.H.W., Brailsford, T.J. and Terrell, R.D. (2002). Selecting the forgetting factor in
subset autoregressive modelling. Journal of Time-series Analysis, in press.
47. Penm, J.H.W., Penm, J.H.C. and Terrell, R.D. (1999). Economic forecasting - subset time
series models with zero coefficients, sample version 1, ISBN 0-7315-3312-7.
48. Penm, J.H.W., Penm, J.H.C. and Terrell, R.D. (2003). Collaborative Research In
Quantitative Finance And Economics, 2003. Evergreen Publishing, Australia.
49. Poole W., (2003), Institutions for Stable Price: How To Design an Optimal Central Bank
Law, Federal Reserve Bank of St. Louis Review, Vol. 85, pp. 1-6.
50. Posen A.S., (1995), Declaration Are Not Enough: Financial Sectors Sources of Central Bank
Independence, in B. Bernanke and J. Rotemberg (eds), NBER Macroeconomics Annual 1995
MIT Press, Cambridge MA.
51. Ratanapakorn, O. and S. C. Sharma (2002), Interrelationships among Regional Stock
Indices, Review of Financial Economics 11(2): 91-108.
52. Sieg, (1997), A model of partisan central banks and opportunistic business cycles, European
Journal of Political Economy, Vol. 13, pp. 503-516.
53. Toniolo G. , (1988), Central Bank Independence in Historical Perspective, de Gruyter,
Berlin New York.
54. Tse, Y.K. and Ng. L.K. (1997). The cointegration of Asian currencies revisited, Japan and
the World Economy, Vol 9, pp 109-114.
55. Vaubel R., (1997), The bureaucratic and partisan behaviour of independent central banks,
European Journal of Political Economy, Vol.13, pp. 214-224.